Political insiders in Greece are expressing confidence that the new coalition government will be able to forge a new strategy that will avert a currency crisis. So far there is no word on whether this will include a local currency.
Moody’s today announced downgrades for 15 giant banks worldwide, particularly Bank of America, Citigroup, Morgan Stanley, and Royal Bank of Scotland, which it said have higher operating risks because of a heavy reliance on borrowing. The downgrades had been hinted at in February. The lowered ratings increase the costs of operating the large high-risk banks by telling investors to expect higher interest rates than on loans to safer banks. More downgrades based on this kind of distinction are likely before the year is over.
It is becoming clear that mortgage risk is not limited to loans made in the high-risk years of 2003–2007. Banks that took the downturn as an opportunity to expand their mortgage lending between 2007 and the present may be at the greatest risk from future economic turmoil. Home values have not rebounded in the way that most observers expected (and many continue to expect), and the decline in real estate values adds to the risk of banks’ loan portfolios. Banks with large mortgage portfolios also get squeezed if interest rates rise while their assets are locked in portfolios of low-interest mortgage loans, a likely occurrence at some point in the future when the economy improves. Banks that are heavily exposed to current mortgage debt have a chance to make a profit if the economy remains relatively stable and sluggish, but could record huge losses if the economy turns upward or downward.
The Fed is resuming its market actions to lower long-term interest rates. This “twist” strategy effectively subsidizes bond investors in the hope that this will encourage banks to lend more. That, in turn, is supposed to reduce the risk of a prolonged recession — an increasing worry now that the euro zone does not seem to be seeing a route out of its current slump. This Fed announcement comes a week after a similar move by the Bank of England.
